Fed keeping inflation under control, Snow says

Core inflation in check, Treasury secretary says

NEW YORK (MarketWatch) -- Treasury Secretary John Snow said Friday he has complete confidence that the Federal Reserve will keep inflation under control.

"Overall growth is strong, and while it's true that headline inflation has picked up, core inflation remains in check," Snow said in prepared remarks to the Bond Market Association. "I have full confidence that Chairman [Ben] Bernanke and the Fed are committed to price stability and understand that this is their No. 1 priority."

Snow's brief comments about the Fed were some of his most direct ever. Typically, administration officials decline to comment substantively on the Fed or interest rates, saying they respect the Fed's independence.

In his delivery, Snow omitted the comments about the Fed. Earlier, Snow had made similar comments about contained core inflation in a televised interview. He said central banks worldwide had a better understanding of inflation than they had in the 1970s and 1980s. His comments helped to continue the bond rally of the past week. See Bond Report.

Markets have been whipsawed in the past few months about what the Fed will do next. At times, investors seem to fear the Fed will stop too soon and let inflation get out of hand. At other times, they fear the Fed will go too far and choke off growth.

Kansas City Fed President Tom Hoenig said in an interview with the Wall Street Journal that the Fed is well aware of the risks of overshooting on interest rates. He said he expects core inflation to moderate despite the 0.3% increase in the core consumer price index for April reported earlier this week.

"Let's maybe be a little bit patient here, and then decide what the right course is," Hoenig said.

The Federal Reserve has raised its overnight interest rate target 16 times since June 2004, but has now signaled that it could soon pause to reflect on the impact of those rate hikes on the economy and on inflation. Monetary policy works with a lag as long as 18 months, meaning much of what the Fed has done has had little impact on the real economy. Yet.

After its most recent meeting, the Fed said its next step would depend on the incoming economic data. Further rate hikes could "yet" be needed, the Fed said.

Economic growth appears on course to slow, while core inflation has risen above the Fed's comfort zone. Financial markets now expect the Fed to boost the federal fund rate to 5.25% at the end of June and then stop.

Snow said the economic expansion remains healthy, in part due to lower tax rates and strong business investment. "No one is talking about 'irrational exuberance' today. This is a well-grounded durable expansion," he said.

Answering questions from the audience, Snow said the housing market is slowing, but remains solid. The economy is resilient enough to handle any adjustment in the housing sector.

He said growth rates would moderate from 4.8% in the first quarter, but added that gross domestic product was still "going to be well into the 3s" in the second quarter.

Snow touted the benefits of lower taxes. "The results are in and they are clear: economic growth has led to a surge of tax revenues and shrinking deficits,' Snow said. "It cannot be denied that low taxes truly are consistent with rising federal revenues -- which of course help bring the deficit down."

"The bad news for the bond market is, of course, that there will be less debt to issue," he said.

Echoing comments made earlier by Treasury Undersecretary Randal Quarles, Snow said: "We believe that limitations should be placed on the size of the housing GSEs' retained mortgage investment portfolios, and that the GSEs should have a 'world class' regulator with the authority and direction to limit the size of their retained portfolios."

On pensions, Snow said proposals to reform the government insurance program for defined benefit pensions may be "inadequate." The White House is concerned that "stronger action is needed to improve the protection of pension benefits," Snow said.

Intraday Data provided by SIX Financial Information and subject to terms of use. Historical and current end-of-day data provided by SIX Financial Information. All quotes are in local exchange time. Real-time last sale data for U.S. stock quotes reflect trades reported through Nasdaq only. Intraday data delayed at least 15 minutes or per exchange requirements.